‘Whatever it takes’

The ECB again reduced its interest rates last week. For some time there has been an animated debate among market watchers on whether a further lowering of interest rates – even into negative territory – will have much impact. Much of the government bonds in Europe are now trading at negative yields, which worries many investors.

In recent months, banks came under pressure again too; falling interest margins mean lower income. Concerns were raised that the nascent lending recovery in the Eurozone may be short-lived. The central bank has acknowledged these concerns and takes further actions to encourage lending. Banks that lend more will be ‘rewarded’ by means of new Targeted Long-Term Refinancing Operations (TLTROs).

By encouraging lending and increasing credit supply, the ECB tries to boost the economy. Yet the demand side of the economy still lags behind. Consumers are spending more money and up to now, the economic recovery has been largely attributable to this increase. Corporate investments are lagging, partly because companies see little growth prospects. On top of that, there is still excess capacity in the economy. So why would companies invest if prospects for higher growth are so limited?

A little help
Fourth quarter economic growth figures, which showed that investment growth is improving, were encouraging. Also given the uncertain economic environment, it seems high time for a little extra help. That is something that the ECB cannot immediately do anything about. But governments can. Now that the bottom of the ECB’s toolbox is beginning to show, it’s up to the governments to stimulate growth. They have been able to borrow at historically low interest rates for quite some time now – some are even paying negative rates – making it an attractive time to invest.

With his ‘whatever it takes’ speech in July 2012 and the subsequent series of actions, Mario Draghi has proved that he and the ECB are serious about steering the Eurozone into safe harbor. However, he has continually insisted that governments should also play their part, in the form of reforms and investments. So far, they have been practically invisible, while the ultra-low interest rate environment offers a unique opportunity to invest in education, renewable energy and various forms of infrastructure. This would give a major boost to both the cyclical momentum in the short term and the economy’s growth potential in the long term. It would also be a strong catalyst for private investment, while the debt servicing costs would barely rise. Indeed, governments that can finance themselves at negative interest rates are paid to invest in their own future!

The question is; who will deliver first and set a good example? A Eurozone-wide coordinated action plan would obviously be most desirable. However, not long ago a well-known European politician stated ‘Wir schaffen das’ and we all know what that has brought us so far…

ENDS

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